This will be the last in our Housing Bill Series; pretty amazing that 700 pages came down to 4 important paragraphs.
The last, and some would say most important part, is the “cram down” of a loan. I’ve read and heard a lot of explanations and most (all) of the explanations have been wrong in some way. I’m going to try to explain this “offer” from the government without inserting my opinion about it, guess we’ll see how that goes…
Part 4: FHA Backed Lender Bailout
(AKA, the best deal ever written for the government)
The intention of this center piece of the housing bill is to minimize the foreclosure rate. It acts essentially as a way of offering a “short sale” to the current homeowner. Well, at least that’s the intention.
The first important note about this is that it is OPTIONAL for the lender to participate. If the current lender on a mortgage decides that it is in their interest, they will be able to add FHA insurance to a loan given a very specific set of criteria:
o They will need to reduce the balance on the loan to 90% of the current market value (not 90% of the current loan), meaning the customer will have the home appraised and their new loan will be equal to 90% of the value.
o Then, the lender will pay to FHA 3% of the loan amount as a one time fee.
o The customer will then pay a monthly premium to FHA (that will be added to their mortgagee payment) equal to 1.5% of the loan amount divided by 12.
o The lender/customer must be able to document income that proves that the customer is able to afford this new loan.
Some notes worth mentioning; FHA is only insuring any money lost on this new loan (90% of current appraised value) in the event of a foreclosure. Since the new loan amount is based on 90% of the CURRENT value, it is possible…even likely, that the property itself could cover the amount due in a foreclosure…in that case FHA would pay nothing to the bank. Ultimately, FHA (read: our government…the writers of this law) get a 3% fee and 1.5% per year to insure a loan on a house that has equity, not a bad deal.
Also, there are 2 important factors that need to overlap for a homeowner to actually benefit from this;
1) The customer has to be able to prove that they can afford this new loan AND the payment for the FHA insurance.
2) The bank has to be willing (read: financially motivated) to take a write down on the loan amount…and pay 3% of the new loan to FHA.
Since the 90% rule is based on a new appraisal, the write down can not be determined when this process begins. Because of that banks will be hesitant to offer this to anyone but the “most likely” to default customers…and those customers are probably going to be the ones who have trouble with the 1st issue; proving they can afford the new loan. Without both of these factors, there will be no relief generated through this program.
Make no mistake, there will be people benefiting from this. Banks will participate because it will allow them to quantify their losses in a definite way (the loss will be the difference between the previous loan amount and 90% of the current value minus the 3% fee). There is value to shareholders in these banks to defining the losses from previous lending mistakes. That alone will provide some financial motivation to offer this to current homeowners in their portfolio.
And there will be customers who can afford the new proposal, but my question about the value of this part of the bill is this;
If the loan will now be backed by a home with equity. And the bank can document that they can afford to make payments. Why does the bank need the FHA insurance? Isn’t this really just unnecessary insurance on an extremely low default risk?
…so much for my opinion being left out.
--Keith
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